Down But Not Out: IRS Cites Political Activity in Denying Groups Tax-Exempt Status

The IRS recently denied tax-exempt status to two organizations based on their political activities. The two groups – whose names have been redacted from letters released by the agency – sought tax-exempt status under Section 501(c)(4), which is reserved for “social welfare” groups whose primary purpose is to benefit the general community.

Controversy has been swirling around campaign spending by 501(c)(4) groups. Unlike PACs and other organizations formed primarily to influence elections, a 501(c)(4) is permitted to keep its donors confidential, leading some critics to term their election-related spending “dark money.” Last year, a furor over IRS targeting of Tea Party groups mired the agency in Congressional hearings and resignations from senior officials, and appeared to paralyze the processing of applications from groups seeking 501(c)(4) status.

In the last couple of months, however, the IRS has reasserted its authority. The IRS and the Treasury Department proposed new rules in late November, which seek to clarify when activities conducted by 501(c)(4) groups will be considered election-related. The proposed rules take such an expansive view of election-related spending that our earlier blog post characterized the agencies’ proposal as an “unsafe harbor.” The agency’s latest action to reject two applications for 501(c)(4) tax-exempt status based on purported political activities may be further evidence of revived interest in this area.

In one case, the requesting group presented sketchy plans to focus public debate and officeholders on an issue of interest to the organization. (The issue is unidentified in the released IRS materials.) According to the IRS, the group acknowledged spending about 60% of its first year’s budget on an election-year flier advocating the defeat of a candidate. The IRS also noted that the group’s website was devoted to raising money for political ads to help elect members of Congress who share the organization’s views. The bulk of the group’s spending in its second year was to compensate one of its directors, whose primary work appeared to relate to the lone flier and the group’s website. None of these activities, the IRS concluded, promote the public good and social welfare.

In the other case, the group seeking exemption under 501(c)(4) was formed to serve as a liaison between the community and one of the state political parties. (The state and party is unidentified.) The agency noted that even if an organization substantially benefits the community, it will not qualify for exemption if it also primarily benefits private interests. In this case, the group’s mission, as described in its bylaws, was to promote participation in the state party and support candidates – activities which the IRS concluded would benefit the private interest of the State party, and thus disqualify the group from 501(c)(4) status.

It is premature to say whether these recent IRS actions portend more vigorous review of 501(c)(4) applications or merely a small step by an agency under siege to rehabilitate itself. After all, these are relatively easy targets. Neither group appears to be represented by outside counsel. The first group had very little funding and seems to have produced nothing more than a website and a single flyer. The application by the second group is not unlike one submitted in the late eighties by a school formed to train and place campaign professionals in Republican campaigns. Indeed, the IRS’s response to the second group cites a long string of rulings from the sixties and early seventies, which is perhaps intended to tamp down concerns that the agency may be looking to establish new precedent.

In any event, a staggered giant appears to have found its footing. What the IRS does next about political activity by 501(c)(4) groups remains to be seen.